MFRS137

COMMITMENTS, PROVISIONS, CONTINGENCIES

ACC202
KOLEJ UNIVERSITI POLY-TECH MARA

146
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

ACCOUNTING FOR COMMITMENTS

• MFRS does not define the term “commitment” in accounting standards.
• However, generally, commitment means a promise or an undertaking to deploy money or
other financial resources for a particular purpose.
• A commitment may or may not result in a liability to the entity – because the obligation to
perform will arise only in the future periods.
• The scope of commitments:
bolen jadi ada agreement
o Legally binding – these commitments shall be disclosed separately because the
probable future outflow of economic resources is more certain.
o Mere intention – is not obligations. Disclosure is not necessary.
• The followings are commitments required to be disclosed in notes to the account as per
MFRS:
o MFRS101 Presentation of Financial Statements – contingent liabilities, unrecognized
contractual commitments
o MFRS116 Property, Plant and Equipment – amount of contractual commitments for
the acquisition of PPE subject to the amount of capital expenditure contracted for,
and the amount of capital expenditure authorized by directors but not contracted
for.
o MFRS117 Leases Sewa sepanjang perkhidmatan
, bulan dikiva purchase
last barr

▪ Finance lease – a lessee shall disclose reconciliation between the total

minimum lease payments at the end of the reporting period and their
present value for each of the periods in bands of:
i. < 1 year
ii. 1 year < X < 5 years
iii. > 5 years
▪ Operating lease – a lessee shall disclose the total future minimum lease
payments under non-cancellable operating leases for each periods of bands
of:
i. < 1 year
ii. 1 year < X < 5 years
iii. > 5 years

o MFRS141 Agriculture – disclose capital expenditures for acquisitions and

development of biological assets
o MFRS12 Disclosures of Interests in Other Entities – a venture shall disclose the
aggregate amount of the following commitments in respect of its interest in joint
ventures separately from other commitments:

147
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

▪ Any capital commitments of the venture in relation to its interest in joint

ventures and its share in the capital commitments that have been incurred
jointly with other venturers; and
▪ Its share the capital commitments of the joint ventures themselves

ACCOUNTING TREATMENT:
Disclose in notes to the accounts.

ACCOUNTING FOR CONTINGENCIES

• A contingency may be defined as:
“A condition or situation, the ultimate outcome of which, gains or loss, will be confirmed
only in the occurrence of one or more uncertain future events”
• The cause of contingency must have occurred before or on the date of the statement of
financial position – however, the ultimate outcome can only be confirmed by one or more
uncertain future events.
• To determine the accounting treatment for such outcome, the uncertainty of the outcome
=
is based on:
o Probable – high chance of occurrence
o Possible–medium chance of occurrence
50 50
-

o Remote – low chance of occurrence

tak (UK-P
evidence

MFRS137 PROVISIONS, CONTINGENT LIABILITIES AND CONTINGENT

tanggung kerugian

ASSETS
MFRS 137 defines a provision as liability of uncertain timing or amount. Therefore, when
dealing with contingencies, MFRS 137 distinguishes between Provision and Contingent Liability.
1. Provisions
• Provisions are recognized as liabilities because they are present obligations and it is
probable that an outflow of resources embodying economic benefits will be required to
settle the obligations
• MFRS 137 prescribes that a provision shall be recognized when:
a) An entity has a present obligation (legal/constructive) as a result of past event;
Ana b) It is probable that an outflow of resources embodying economic benefits will be
required to settle the obligation; and
c) A reliable estimate can be made of the amount of the obligation.
-case study man a

9) pagifar dolam case mana

-
describe obligation ,

be tak
b) highly probable dia

ada figure
number ,
tu
jaropan
a) normaly

148
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

• Two types of present obligation:

o Legal obligation – derives from:
a) A contract (through its explicit or implicit terms);M
b) Legislation; or Caitan undang Undang Kerajach)
.

c) Other operation of law [undang-undang specific)

o Constructive obligation – derives from an entity’s actions where:
a) By an established pattern of past practice, published policies or a sufficiently
specific current statement, the entity has indicated to other parties that it
will accept certain responsibilities; and
b) As a result, the entity has created a valid expectation on the part of those
other parties that it will discharge those responsibilities.
Example 1

Case 1
A retailer gives “money-back” guarantee at the time of sale to purchasers of its product. Under
the term of sale, the retailer undertakes to refund the full amount to a purchase who is not
satisfied with the good and return it to the retailer within a one year from date of sale. On past
experience, it is probable that there will be some purchasers who will return the goods sold to
them.

Case 2
A retailer sells goods without any guarantee for product quality. However, it has a policy of
refunding purchases by dissatisfied customers, even though it is under no law to do so. Its
policy of making refunds is generally known and it has in the past honored such refunds.

Required:
Explain, with reasons, whether a provision shall be recognized in each of the two cases above.

Solution

Case 1
There is a present obligation as a result of past obligating event. The obligating event is the sale
of product with the money-back guarantee which gives rise to a legal obligation. It is also
probable that some purchasers will return the goods sold to them. Therefore a provision shall
be recognized based on the best estimate (%) of the costs of the goods sold less any realizable
value. For example, based on past experience, a provision for returns maybe estimated using a
percentage of the cost of sales at the end of the reporting period.

149
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

Case 2
The obligating event is the sale of the product which gives rise to a constructive obligation
because the conduct of the retailer has created a valid expectation on the part of the customers
that the retailer will refund purchases to unsatisfied customers. It is also probable that a
proportion of the goods sold will be refunded. Therefore, a provision is recognized based on the
best estimates of the cost of refunds.

Example 2
Entity A operates in the palm oil manufacturing business. Under a new legislation, the entity is
required to fit smoke filters to its palm oil mills by 30 June 20x9.

At 31 December 20x8, the Entity has not fitted the smoke filters. The costs to fit the smoke
filters are estimated at RM4 million.

At 31 December 20x9, the entity still has not fitted the smoke filters and therefore faces a
probable fine or penalty by law.

Required: Explain whether a provision shall be recognized for the costs of fitting the smoke.

Solution
31 December 20x8 – no provision shall be recognized because no present obligation as the new
legislation is not yet effective (30 June 20x9).

31 December 20x9 – a provision shall be recognized for the fine or penalty imposed by law
because it is more likely to occur due to non-compliance to the new legislation.

ACCOUNTING TREATMENT:
Provision shall be recognized in SOFP and expense shall be written off in SOPL.

Dr. SOPL(exp)
Cr. Provision

2. Contingent liabilities
• MFRS139 defines a contingent liability as:
a) A possible obligation that arises from past events, and whose existence will be
confirmed only by the occurrence or non-occurrence of one or more uncertain
future events not wholly within the control of the entity; or

150
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

b) A present obligation that arises from past events but is not recognized because:
i. It is not probable that an outflow of resources embodying economic benefits will
be required to settle the obligation; or
ii. The amount of the obligation cannot be measured with sufficient reliability.

ACCOUNTING TREATMENT:
Disclose in notes to the accounts.

CONTINGENT ASSETS
• MFRS137 defines a contingent asset as:
“A possible asset that arises from past events, and whose existence will be confirmed only by
the occurrence, or non-occurrence, of one or more uncertain future events not wholly within
the control of the entity”
• A contingent asset shall be disclosed only if it is probable that the gain will be realized –
where the inflow of economic benefits is probable.

IMPORTANT!
LIKELIHOOD OF FUTURE EVENT)S) OCCURRING
TYPE OF CONTINGENCY PROBABLE& PROBABLE BUT NOT REMOTE
RELIABLY RELIABLY
ESTIMATED ESTIMATED OR
POSSIBLE
CONTINGENT LOSSES/ Recognize as liability Disclose in the No mention
LIABILITIES – provision notes
CONTINGENT GAINS/ Disclose in the No mention No mention
ASSETS notes

151
EXERCISES

Question 5
Given below are situations that are independent of each other. For all situations, the financial
year end is 31 December 2006 and the financial statements are expected to be approved by the
Board of Directors on 31 March 2007.

For each situation, state the accounting treatment, the reasons and the amount involved if
applicable.

i. Bandar Heights Bhd intends to issue its 2006 financial statements on 30 March 2007. In
February 2007, Bandar Heights Bhd acquired a subsidiary company Mutiara Emas Bhd.

ii. CC Bhd gives warranties at the time of sale to purchasers of its product to repair or
replace any defects within three (3) years from the date of sale. Based on past
experience, it is probable that there will be some claims under the warranties.

i. In December 2006, Marakon Bhd was sued for damages arising from an accident that
the company’s vehicle was involved in. As at 31 December 2006, the company’s lawyers
advised that it is probable the company would lose the case and would have to pay
damages amounting to RM200,000. However, the vehicle is insured and it is virtually
certain that the company could recover RM150,000 from the insurance company.

ii. Mawar Bhd operates profitably from a factory that it had leased under an operating
lease. During December 2006, the enterprise relocates its operations to a new factory.
The lease on the old factory continues for the next four (4) years, as it cannot be
cancelled and cannot be re-let to another user.

iii. In 2005, Mountain Apes Bhd acquired 1,000,000 shares of DEF Bhd at a cost of
RM2,500,000. DEF Bhd’s share capital consists of 10,000,000 ordinary shares of RM1.00
each. On 31 December 2006, a provision for diminution in investment of RM500,000
was made in respect of these shares. The provision took into account the impairment in
value of the investment. These shares were sold on 20 February 2007, resulting in a loss
of RM100,000. The loss of RM100,000 reflects further deterioration in share prices after
31 December 2006.

152
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

iv. On 10 January 2007, Bidi Bhd’s factory was destroyed by a fire due to a sabotage from a
rival company. The factory was not insured sufficiently and the loss suffered from the
fire is estimated to be RM500,000.

v. Semut Semut Bhd acquired a piece of machinery on 1 January 2002 for a cash
consideration of RM100,000. The machine is expected to have a useful life of ten (10)
years with no residual value. The company uses the straight line method of depreciation
for the building. In January 2006, it is estimated that the machine will have a remaining
life of four (4) years. The estimated useful life of the machine was changed from ten (10)
to eight (8) years.

vi. In January 2007, the Board of Directors of Penawar Bhd announced the closure of its
fishing division in Tanjong Sepet. The division’s carrying value before the announcement
was RM270,000. Its value in use after the announcement is RM320,000 and its fair value
less costs to sell is RM430,000. A buyer has been found for this division at the asking
price and the sale will be completed in 2007.
(Total: 20 MARKS)
AC/APR 2007/FAR400

Question 5 (A)
Bigfree Bhd is engaged in the manufacturing of industrial filters. The finance director is
reviewing the accounting treatment of various items for the year ending 31 December 2006
prior to the approval of the accounts on 15 May 2007. The items are as follows:

a) On 20 November 2006, the Employees Provident Fund (EPF) has filed a lawsuit against
Bigfree for failure to remit EPF contributions amounting to RM500,000 on behalf of 20
foreign workers. The legal adviser of the company is of the opinion that the company could
possibly lose the case.

b) A cash payment of RM850,000 to a trade supplier made in 2005 was incorrectly debited to
the advertisement expense account. The external auditor has duly advised the company to
rectify this transaction.

c) A customer filed a lawsuit against Bigfree in August 2006, for costs and damages allegedly
incurred as a result of the failure of one of company’s products. The amount claimed was
RM1,200,000. The legal adviser of the company has advised that Bigfree has a good chance
of winning the case. However, the legal adviser has also advised that, if the company loses
the case, its expected costs and damages would amount to RM500,000.

153
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

Required:
i. Indicate the nature of the above transactions or events and state its proper accounting
treatment; and
(6 marks)
ii. Show the journal entries to give effect to the above information.
(3 marks)
AC/OCT 2007/FAR400
Question 5
Cahaya Budi Bhd is currently preparing its financial statements for the year ending 31
December 2007 and have requested a meeting with the accountant to discuss the proper
accounting treatment for each of the following situations. The company intends to issue the
financial statements on 1 May 2008. The profit for the year before taking into account the
following transactions was RM1,430,000. The retained profit as at 1 January 2007 was
RM5,670,000.

a) Cahaya Budi Bhd has a patent on a copier design. The patent has been amortised on a
straight-line basis since it was first acquired at a cost of RM680,000 in 2004. During
2007, it was decided that the benefits from the patent would be experienced over a
total of 10 years rather than the 17-year legal life now being used to amortise it.

b) In February 2007, the management of Cahaya Budi Bhd discovered that a senior
employee who left the company in December 2006 had committed a fraud in divesting
some of the company’s investments. The loss from this misappropriation of fund was
RM975,000.

c) During the financial year 2007, Cahaya Budi Bhd sued its main supplier for RM1,520,000
damages for unreliable supply of materials which has halted its production. As at the
balance sheet date, a verdict was given in favour of the company. The hearing to
determine the amount of damages, however, will only be held after the balance sheet
date.

d) In January 2006, Cahaya Budi Bhd incurred RM2,400,000 as training costs and amortised
it over five years. In 2007, the company decides to conform to the requirement of FRS
138, Intangible assets which requires training costs to be written off as they are
incurred.

e) Since 2005, Cahaya Budi Bhd has entered into a contract to supply its products to a
particular government agency. The rising fuel costs in 2007 have made the contract

154
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

price to be lower than the costs of production. Cahaya Budi Bhd has two more years to
supply the product at the contract price which the directors have estimated, will result
in the company incurring losses of RM320,000. Cahaya Budi Bhd has no option to exit
the contract.

Required: Explain the proper accounting treatment for each of the above transactions.
(15 marks)
AC/APR 2008/FAR400
Question 4(A)
Below are four (4) independent situations. For each situation, the financial year of the
companies ends on 31 March 2010. Explain the accounting treatment for each situation in
accordance with the relevant financial reporting standards. Support your explanations with
workings where necessary.

i. On 1 March 2008, Grease Bhd received a letter from the local regulator for alleged
environmental pollution and has been requested to make changes to its manufacturing
process to ensure it is environmentally safe. Grease Bhd anticipates to pay RM2 million
fines to the local regulator and compensation claims to local residents amounting to
RM4 million during the year ended 31 March 2010. In addition, Grease Bhd expects to
incur RM3 million in order to make its’ manufacturing process environmentally safe.
(4 marks)

ii. During the year ending 31 March 2009, Perawan Bhd anticipated that the company
would be suffering financial losses in 2010 and had then provided for future operating
losses of RM4,000,000. For the year ending 31 March 2010, the current year provision
of RM6,000,000 has been included in the administrative expenses
(4 marks)
AC/OCT 2010/FAR400

155
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

QUESTION 5
A. The objective of MFRS137 Provision, Contingent Liabilities and Contingent Assets is to
ensure that appropriate recognition criteria and measurement bases are applied to
provision, contingent liabilities and contingent assets and that sufficient information is
disclosed in the notes to enable users to understand their nature, timing and amount.

Required:
a. Discuss briefly the following terms:
i. Contingent liabilities (2
marks)
ii. Contingent assets (2
marks)

b. Explain briefly THREE (3) recognition criteria for a provision in accordance with MFRS137
Provision, Contingent Liabilities and Contingent Assets.
(3 marks)

B. Harus Jadi Bhd is finalizing its financial statement for the year ended 30 June 2015. The
company, however, has the following events which need careful consideration so as to
adhere to the requirements of MFRS137 Provision, Contingent Liabilities and Contingent
Assets.
i. The company is in the business of selling cars. During the year, the company sold 10,000
units of cars which come with a three-year warranty. It is estimated that the company
will incur RM5,000 for 100 units of the cars sold due to defect.

ii. The company is facing litigation for damages amounting to RM100,000 for an unfair
dismissal of a former employee. However, the legal advisor ruled out that there is a very
remote chance that the former employee will win the case.

iii. The company has a legal suit with one of its major suppliers which may result in a
receipt of compensation amounting to RM200,000. Its legal advisor is in the opinion that
there is a high possibility that the company will be awarded with the compensation.
However, it is dependent upon the verdict of the court.

iv. In September 2015, before the financial statement was authorized for issue, the
company received a court order to pay for the damages the company as caused as a
result of pollution to the river in Panjang Valley. Even though the company has no legal

156
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

obligation to so, the company declares to the public that it will be responsible to take
care of the environment. The damage is estimated to cost the company RM200,000.

Required:
a. For each of the economic events described above, advise the management on the
proper accounting treatment in accordance with MFRS137 Provision, Contingent
Liabilities and Contingent Assets.
(8 marks)
b. Advise the management on the relevant journal entries for transactions (i) and (iv).
(5 marks)
AC/SEP 2015/FAR270

QUESTION 5
A. Leen Bhd supplies foreign maids to Malaysian families. For the year ended 31 December
2014, the company received several complaints concerning maids who ran away, from their
contractual obligations, causing financial difficulties to the affected families. The Malaysia
government has passed an Act requiring recruiting agencies to bear the costs of replacing
missing maids and to compensate the affected families. Leen Bhd estimated that the
compensation costs to be RM600,000.
Required:
a. Differentiate between liability and provision in accordance with MFRS137 Provision,
Contingent Liabilities and Contingent Assets.
(3 marks)
b. Discuss briefly whether or not Leen Bhd would be required to recognize a provision.
(4 marks)

B. Smart Bhd constructed a new building. During the year ended 31 December 2013, the crane
used for construction collapsed and injured a few workers. The investigation to determine
the cause of the accident is still in progress thus legal action in connection with the accident
has not been taken. Discussions for compensation have been made however, decisions have
not been established.
Required:
a. Advise the appropriate accounting treatment of the above situation in accordance with
MFRS137 Provision, Contingent Liabilities and Contingent Assets.
(5 marks)

157
MFRS137
KOLEJ UNIVERSITI POLY-TECH MARA, KUALA LUMPUR

b. During the year ended 31 December 2014, the lawyers of Smart Bhd have advised the
company that there is a 70% chance that the workers’ claims will be settled at
RM500,000.
i. Discuss the proper accounting treatment of this situation in accordance with
MFRS137 Provision, Contingent Liabilities and Contingent Assets.
(5 marks)
ii. Support your answer with relevant journal entries.
(3 marks)
(Total: 20 marks)
AC/MAR 2015/FAR270

158
QUESTION 5
A. Lily Bhd which operates in Blueland produces industrial paints. In the process of producing
these paints, the company uses hazardous chemicals which resulted in waste that has
caused contamination. Currently, there is no legislation requiring clean-up in Blueland. The
entity also pays little regard to environmental issues.

Required:
a. Differentiate between legal obligation and constructive obligation in accordance with
MFRS137 Provision, Contingent Liabilities and Contingent Assets.
(3 marks)
b. Discuss briefly whether or not Lily Bhd would be required to recognize a provision.
(4 marks)

B. Blossom Bhd is engaged in the manufacturing if industrial filters. During the year ended 31
December 2015, a customer files a lawsuit against Blossom Bhd for costs and damages
allegedly incurred as a result of the failure of one of the company’s products. The amount
claimed was RM700,000. The legal advisor of the company has advised that Blossom Bhd
has a good chance of winning the case as the customer did not follow directions in using the
product.

During the year ended 31 December 2015 the Employee Provident Fund (EPF) filed a lawsuit
against Blossom Bhd for failure to remit EPF contributions amounting to RM600,000 on
behalf of 15 foreign workers from Indonesia. The legal advisor of the company is of the
opinion that there is more than 50% chance that the company could lose the case.

Required:
a. Advise the appropriate accounting treatment of customer lawsuit in accordance with
MFRS137 Provision, Contingent Liabilities and Contingent Assets.
(5 marks)
b. Discuss the proper accounting treatment of the EPF lawsuit in accordance with
MFRS137 Provision, Contingent Liabilities and Contingent Assets.
(5 marks)
c. Support tour answer in (b) with relevant journal entries
(3 marks)
(Total: 20 marks)
AC/MAR 2016/FAR270

159